Tesla is set to dominate in China

A man takes a photo of the logo on a Tesla Model S sedan at an event in Beijing.
Ng Han Guan/AP

Tesla this week confirmed talks with the Chinese government to build a factory near Shanghai.

Tesla made $1 billion from China last year and $4.2 billion in the US.

No deal is confirmed yet, but a Chinese factory would be a huge boost for Tesla sales in the country.

Tesla, Inc., on Sunday confirmed that it's been in talks with the Chinese government to set up shop in a free trade zone in the Shanghai region.

It confirms rumors and think pieces about the electric carmaker's agenda to build its own factory in the "new energy vehicle" market.

It's not yet clear if an agreement has been made. If it closes, Tesla will be the first foreign automaker to build cars in China without a joint venture established with a Chinese vehicle manufacturer. All of the major global automakers have been manufacturing vehicles sold in country through JVs forged over the past quarter century.

The arrangement will be closely watched to see if Tesla CEO Elon Musk had to make any compromises with the national government, such as establishing a battery-making partnership for Tesla's next "gigafactory."

Tesla has three objectives in the deal: expanding its share of the world's largest electric vehicle sales market; staying independent of China's requirement for foreign automakers to forge JVs with Chinese manufacturers; and protecting the proprietary intellectual property built into its growing lineup of EVs.

Working in one of China's free trade zones protects Tesla's corporate decision making, but it doesn't take away the hefty 25 percent import fee that it's been charged all along. The company would benefit from cost reductions in not having to ship its vehicles to China.

China is a vital market for Tesla, as Musk has clearly stated in recent years. Tesla earned $1 billion in revenue in China last year. That compares to $4.2 billion in Tesla's U.S. home market.

In late April, Musk held a surprise meeting with Chinese vice premier Wang Yang. It was the first time Wang had ever me with an automotive CEO alone, according to Li Anding, a former automotive reporter for China's Xinhua news service.

That led to a wave of speculation that Tesla was forging a deal to build cars, and perhaps EV lithium ion batteries, locally.

China is becoming more flexible to grow its local EV market and remain No. 1 globally, to clean up air pollution in its growing cities, and to free up the nation from foreign oil imports.

Tesla now has a 5 percent stake from Chinese internet company Tencent Holdings, which should support Tesla's strategy in that market.

BMW, one of Tesla's chief competitors for car shoppers interested in luxury EVs, for years has been selling its traditional high-performance vehicles through the BMW Brilliance alliance. BMW and other German performance carmakers have been tracking Tesla's move in global markets.

As Tesla prepares to ramp up production of its Model 3 small sedan with a $35,000 starting price and 220 mile per charge range, China is expected to be a leading sales market. BYD, the leading Chinese EV maker, will be anxiously awaiting Tesla's growing share of the market - and if the company loses business to Tesla.

In late 2016, movie superstar Leonardo DiCaprio signed on to promote BYD's electric vehicles and zero emissions campaign. BYD and Oscar-winning actor DiCaprio agreed to cooperatively spread the word on plug-in cars, utility vehicles, buses, solar energy, renewable storage, and light electric monorail systems - all of which are being developed and produced by the company.

That goes head-to-head with Tesla and its SolarCity acquisition, a new energy storage division, and a two-mile underground test tunnel in Los Angeles.

The stakes are very high overall for Tesla's financial future. The company plans to leap five-fold in production by the end of next year — from about 100,000 electric vehicles expected to be produced this year to 500,000 next year.

That will be led by the new Tesla Model 3. The upcoming Tesla Model Y electric crossover is expected to also play a key role in the company hitting its second grand target — producing 1 million new vehicles per year starting in 2020.

Selling high volumes of these EVs in China is part of the business plan. Building them in China would vastly increase its production presence and cut some of the cost.